INCLUSION OR EXCLUSION OF ELECTIVE CONTRIBUTIONS DOES NOT CAUSE PENSION PLAN TO BE DISCRIMINATORY

Rev. Rul. 84-74

PURPOSE

The purpose of this revenue ruling is to give further consideration to Rev. Rul. 69-296, 1969-1 C.B. 127.

ISSUE

Whether the inclusion of elective contributions to a tax sheltered annuity described in section 403(b) of the Internal Revenue Code as compensation in the employer's money purchase pension plan may cause the pension plan to be discriminatory within the meaning of section 401(a)(4).

FACTS

In Rev. Rul. 69-296, an organization which is exempt from federal income tax under section 501(c)(3) of the Code established a money purchase pension plan for its employees. Under the provisions of the plan, the term "compensation" of an employee is defined to include all current compensation paid to the employee, plus any amounts paid by the employer toward the purchase of nonforfeitable annuities under an arrangement referred to in section 403(b). The money purchase pension plan otherwise meets the requirements of section 401(a).

LAW

Section 401(a)(4) of the Code provides that the contributions or benefits under a qualified plan must not discriminate in favor of employees who are officers, shareholders or highly compensated.

Section 401(a)(5) of the Code provides that a plan shall not be considered discriminatory merely because the contributions or benefits of or on behalf of employee-participants bear a uniform relationship to the total compensation or the basic or regular rate of compensation of the employees.

Rev. Rul. 83-89, 1983-1 C.B. 88, provides that the inclusion of elective contributions under a qualified cash or deferred arrangement as compensation in a defined benefit pension plan does not cause the pension plan to be discriminatory under section 401(a)(4). However, nonelective contributions under the cash or deferred arrangement may be used to compute employees' benefits under the pension plan only if they do not result in prohibited discrimination under section 401(a)(4). Rev. Rul. 59-13, 1959-1 C.B. 83.

Rev. Rul. 69-296, 1969-1 C.B. 127, holds that any amounts contributed by an employer toward the purchase of a nonforfeitable section 403(b) annuity are to be considered compensation under section 401(a)(5) of the Code. That revenue ruling does not specifically indicate whether the contributions to purchase the section 403(b) annuity are subject to the election of the employee under a salary reduction or similar agreement; nor does it in any way distinguish between elective and nonelective employer contributions.

ANALYSIS

Nonforfeitable contributions made by the employer under a tax sheltered annuity arrangement described in section 403(b) of the Code may be made at the election of the employee under a salary reduction or similar arrangement or may be nonelective contributions. Despite their characterization as employer contributions, elective contributions differ fundamentally from nonelective contributions. If an individual employee does not make an election to have elective contributions deferred, they will be received as current compensation and will clearly be compensation for purposes of section 401(a)(5). Thus, in Rev. Rul. 69-296, any contributions to the annuity contract that were deferred as a result of the employee's individual election may be treated as compensation for purposes of section 401(a)(5) of the Code. Therefore, such deferred amounts may be used to determine whether the money purchase pension plan satisfies the requirements of section 401(a)(4). However, in accordance with Rev. Rul. 83-89, any nonelective contributions to the annuity contract may be used to compute the employer contributions under the money purchase pension plan only if they do not result in prohibited discrimination in the pension plan. See also Rev. Rul. 80-359, 1980-2 C.B. 136.

HOLDING

The inclusion of elective contributions under the tax sheltered annuity arrangement described in section 403(b) of the Code as compensation in the money purchase pension plan does not cause the pension plan to be discriminatory within the meaning of section 401(a)(4) of the Code. Further, the exclusion of elective employer contributions under the tax sheltered arrangement from compensation also would not cause the plan to be discriminatory. However, incluion of nonelective employer contributions under a tax sheltered annuity arrangement as compensation used to determine contributions or benefits to a pension plan may cause the pension plan to be discriminatory within the meaning of section 401(a)(4).

Pursuant to the authority contained in section 7805(b) of the Code, this revenue ruling will not be applied to treat a plan as discriminatory under section 401(a)(4) merely because that plan used nonelective contributions under a tax sheltered annuity arrangement to determine plan benefit accruals or plan contributions for any plan year beginning on or before May 21, 1984, the date of publication of this revenue ruling in the Internal Revenue Bulletin.

EFFECT ON OTHER REVENUE

Rev. Rul. 69-296 is modified to remove therefrom the implication that contributions under a section 403(b) arrangement may be treated as compensation for purposes of section 401(a)(4) of the Code, regardless of whether they are elective or nonelective contributions.